Tips for finding the dirt during due diligence on funds, managers

Documents, documents and documents – and face time ndash; win a client's confidence

Jul 25, 2014 @ 11:20 am

By Liz Skinner

Just as one is rarely too rich or too thin, a due diligence program can almost never be too thorough.

Advisers who can describe an exhaustive process of researching the people and firms they recommend their clients invest with stand to gain the trust and confidence of those clients. Regulators, too, like to see a robust approach to due diligence.

A hardy due diligence program, though, requires more than an Internet search for problems.

“The Internet is a great tool but it has limitations because if often shows the accolades but not the bad stuff, so you have to dig deeper,” said Kenneth Springer, a former Federal Bureau of Investigation agent and president of Corporate Resolutions Inc.

Initial steps should include checking out social media mentions, probing regulatory actions and verifying the educational and other credentials offered up by investment managers, Mr. Springer said.

Then advisers should look for lawsuits related to the managers and the investment firms. Even if these lawsuits were settled before judgments were reached, they can be important red flags that won't necessarily be revealed in the investment company's public documents, he said.

Other records to check out include bankruptcy filings and criminal records in locations where the managers live, work and travel, Mr. Springer said, because they can all offer warning signs of trouble.

Interviewing the money manager “and getting a feel for them face to face” is another great tool for rooting out potential problems, Mr. Springer said.

If he or she isn't available, interviewing someone who previously worked with them can be enlightening, he said.


Robert Henderson, president of Lansdowne Wealth Management in Mystic, Conn., likes to seek out information about a money manager's previous history and track record when he's considering whether to recommend a particular fund.

He talks to someone at the fund group before deciding on an investment because sometimes the people who work for the money manager can discuss certain things that they can't disclose in literature, he said.

Mr. Henderson said he performs most of his own due diligence rather than purchasing research from others. He does rely, though, on data from third parties such as Morningstar Inc.

“I find if you buy canned due diligence, it doesn't necessarily cover some of the things that I want to look at specifically,” he said.

It's important when looking at funds to examine the holdings and evaluate whether it's appropriate that the fund be compared to the benchmarks they are being held up against, he said. In one case, he noticed a particular large-cap domestic fund had material exposure to overseas investments, which was likely the reason it was performing better than the benchmark, he said.

Duane Thompson, a senior policy analyst for fi360, said even if advisers use due diligence provided by turnkey asset management programs, the adviser still will need to thoroughly check out the program. In fact, the adviser needs to perform due diligence on all vendors, including discount brokers or other firms that may be holding client assets, he said.


Mr. Thompson said talking with the money manager becomes especially important with products that are “out of the mainstream,” such as alternative investments.

It becomes especially important with something like a hedge fund because there are certain proprietary aspects to these investments and they may not share their strategies in written documents, he said.

In fact, the Securities and Exchange Commission issued an alert to advisers in January outlining specific responsibilities in this area.

Advisers also should look at a manager's disciplinary history, as well as that of the investment firm and consider how responsive the firm and manager is to questions, Mr. Thompson said.

Finally, due diligence isn't a one-time task.

Investments and other vendors have to be checked out regularly.

“You can't let it ride, you have to continue to monitor these,” Mr. Thompson said.


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